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From: Luzius Meisser <luzius.meisser@gmail.com>
Date: Wed, 27 Jan 2016 11:12:02 +0100
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To: "Warren Togami Jr." <wtogami@gmail.com>
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Cc: Bitcoin Dev <bitcoin-dev@lists.linuxfoundation.org>
Subject: Re: [bitcoin-dev] Fee smoothing
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2016-01-27 3:45 GMT+01:00 Warren Togami Jr. <wtogami@gmail.com>:
> On Tue, Jan 26, 2016 at 9:42 AM, Luzius Meisser via bitcoin-dev
> <bitcoin-dev@lists.linuxfoundation.org> wrote:
>>
>> Idea: currently, the total amount of fees collected in a block is paid
>> out in full to whoever mined that block. I propose to only pay out,
>> say, 10% of the collected fees, and to add the remaining 90% to the
>> collected fees of the next block. Thus, the payout to the miner
>> constitutes a rolling average of collected fees from the current and
>> past blocks.
>
> [...] Another major issue with mandatory sharing is
> if the miner doesn't want to share, nothing stops them from taking payment
> out-of-band and confirming the transaction with little or no fees visible in
> the block.

While I find the other points you raised debatable, the out-of-band
argument looks strong enough to kill the idea. To work around it, one
would need to create rules about the transactions that can be included
in a block, for example by mandating that all included transactions
must have a fee at least as high as 0.9 times the 5th percentile of
the transactions in the previous 10 blocks. However, having to tell
the miners what fees they are allowed to accept destroys some of the
elegance of the idea. Maybe I should put it to rest for now and see if
a more elegant solution comes to mind later.

> While I don't agree with the rest of your logic, it is agreeable that you
> care about aligning the miner's supply incentives with the global marginal
> cost.  If you believe that is an important goal, you might like the Flex Cap
> approach as presented by Mark Friedenbach at Scaling Bitcoin Hong Kong.
> Under the general idea of the Flex Cap approach block size is no longer
> fixed, it can be bursted higher on a per-block basis if the miner is willing
> to defer a tiny portion of the current block subsidy to pay out to the miner
> of later blocks.
> [...]
> Flex Cap is an area of ongoing research that I strongly believe would
> benefit Bitcoin in the long-term.  For this reason it requires careful study
> and simulations to figure out specifics.

I agree that flex cap is promising. However, for it to be a viable
long-term solution, it must not depend on significant block subsidies
to work as the block subsidy will become less and less relevant over
time.

Picking up your thoughts, I guess this is how flex cap should be done:
1. There is a flexible block cap (e.g. 1 MB). This first MB is free to fill.
2. Miners can buy additional space for an exponentially increasing
fee. For example, the first KiB might cost 200 Satoshis, the second
KiB 400 Satoshis, the tenth KiB 102400 Satoshis etc.
3. The price of the purchased space is subtracted from the collected
fees and added to the reward of the next block.
4. The amount miners are willing to spend on additional space allows
to calculate the marginal costs of a transaction of a miner. For
example, if a miner pays 6000 Satoshis to include a 1 KB transaction
with a fee of 6100 Satoshis, the marginal costs must be below 100
Satoshis, assuming a rational miner. This cost is multiplied by say 50
to account for the costs of decentralization to get a global cost
estimate of 5000 Satoshis per KB.
5. Every 1000 blocks or so, the basic cap is adjusted upwards or
downwards (e.g. by 10%) depending on whether the average fees per KB
were above or below the global cost estimate.

Under such a scheme, prices should get very close to free market
prices. However, ruthless competition can get ugly in markets where
fixed costs dominate. We can currently witness this in the oil
industry. Thus, from an economic point of view, it might be more
advisable to simply let miners vote on block size, as has been
proposed by others. The drawback of voting is that it allows miners to
enforce a cartel among themselves and to charge monopoly prices
instead of competitive prices. However, monopoly prices would already
be much better than having an artificial cap.

Warren, thank you for your thoughts! I appreciate the opportunity to
discuss ideas at such a high level.

--
Luzius Meisser
President of Bitcoin Association Switzerland
MSc in Computer Science and MA in Economics